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Assignment
7
Ahmed Abdelhamed
University of the Cumberlands
Corp Fin: Fiscal Mngmnt GloCul (BADM-734-M40) - Full Term
Dr. Adu Bonna
October 14
th
, 2023
Capital Budgeting Theory and Practice
Abstract
This research paper aimed to delineate lacunae in the extant capital budgeting theory and
practice by collecting research papers published. During the last twenty years in multiple
databases. This research focused on capital budgeting, capital budgeting decision, capital
budgeting theory, capital budgeting practices, capital budgeting methods, capital budgeting
models, capital budgeting tools, capital budgeting techniques, capital budgeting process and
investment decision. It identified factors impinging on choice of capital budgeting practice.
Many researchers have studied capital budgeting during the last five decades, but due to
globalization, environmental changes and cutting edge advanced technological developments,
many of the theories and models developed in the past do not applicable today.(Kengatharan,
2016)
Problem Statement
Web of science search and iCat search were used to locate research papers published
during the last twenty years. The research papers were collected from Kingston University
library's access service. Firms operating in a dynamic environment must respond to changes by
investing large sums of money over a long period. Capital budgeting investment decisions are
critical to survival and long-term success for firms due to many factors, including uncertainty.
One of the most intractable issues confronted by researchers is how to identify, capture, and
evaluate uncertainties associated with long term projects. There are number of methods assist in
making capital budgeting decisions, but other uncertainty factors have deleterious penetration.
Nowadays, complex methods are used for making capital budgeting decisions rather purely
depending on theories of capital budgeting because of uncertainty and other contingency factors.
In a world of geo-political, social as well as economic uncertainty, strategic financial
management is a process of change. This research assumes that capital budgeting practices are
different across firms/ nations and that the ways of looking at capital budgeting practices are not
the same all the time. Therefore, the ontological assumption is of constructionism.
Significance & Purpose of the study
During the past twenty years, 202 research papers appeared in peer reviewed indexed
journals in capital budgeting. The majority of the papers appeared in Engineering Economist (N=
32), followed by Managerial Finance (27), Public Budgeting & Finance (16), Financial
Management(9), Journal of Banking and Finance (8), Journal of Business Finance & Accounting
(6), Accounting Education(5), Management Accounting Research(5), The Journal of
Finance(5).Capital budgeting is the process of deciding investment projects which create in
maximization of shareholder value. It is generally prepared a year in advance and extendable to
five, ten or even fifteen years in future. The most prevalent capital budgeting techniques in the
public finance literature include payback period, accounting rate of return, net present value,
internal rate of return, benefit -cost ratio, and profitability index. The PB model is criticized for
failing to make accurate assessments of project value, as it does not consider use of cash flows,
time value of money, risk in a systematic manner, and further it does not identify investment
projects that will maximize profits. The NPV model measures the difference between present
value of the money in and present value of the money out and determines whether or not a
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capital investment is acceptable. The discounted cash flow (DCF) analysis method is used to
assess capital budgeting, and the net present value (NPV) and internal rate of return (IRR)
methods are considered to be non-DCF methods. The PI model is used to overcome the time
value of money and the size of the investment. Graham and Harvey (2001) reported that twelve
capital budgeting methods were in practice, but all of them were not in usable at all situations.
Discounted payback and Value-at-risk were relatively new methods, and APV additionally
covered the value of financial side-effects of an investment to NPV. Real option theory is closely
related to corporate capital investment decision -making and has been introduced as an
alternative approach for investment appraisal under uncertainty. It involves the use of investment
evaluation tools and processes that properly account for both uncertainty and the company's
ability to react to new information. Many researchers have argued that real options analysis has
an advantage over NPV, since NPV is not able to capture the value of managerial flexibility.
Although this method has not been applied on a large scale in practice, it is mostly applicable in
specific industries or situations.
Research Method
Web of science search and iCat search were used to locate research papers published
during the last twenty years. The research papers were collected from Kingston University
library's access service. Methodology covers research philosophy, research approach, research
strategy, methods of data collection and data analysis.
Critical analysis
Many research scholars criticized that many researches on capital budgeting were opt-
testing the methods of capital budgeting and its practices. This research was well thought out in
its design and become springboard for future research.
References
Kengatharan, L. (2016). Capital Budgeting Theory and Practice: A Review and Agenda for Future
Research.
Applied Economics and Finance
,
3
(2), 15–38.
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tps://ng.cengage.com/static/nb/ui/evo/index.html?deploymentid=5933142288413647560152243&eISBN=97813379
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Ordering Question
Click and drag on elements in order
Place the steps involved in the calculation of the discounted payback period in order.
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Mc
Graw
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Add the discounted cash flows.
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Discount the cash flows using the discount rate.
Need help? Review these concept resources.
Determine the discounted payback period.
Rate your confidence to submit your answer. High
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Government Grants (PAS 20)
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__________1. Realized income from government grant for the year ended December 31, 2015
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Problem 12-9: Garlington Tech
S24 Variant
Balance Sheet
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Receivables
Inventory
Total Current Assets
Net Fixed Assets
Total Assets
Accounts Payable
Line of Credit
Accruals
Total Current Liabilities
Long-term Bonds
Common Stock
Retained Earnings
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AFN (external)
Cumulative AFN
Income Statement
Final
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12/31/2019
12/31/2020
160,000.00
184,000
360,000.00
387,000
720,000.00
828,000
1,240,000.00
1,399,000
4,000,000.00 4,600,000
5,240,000.00 5,999,000
360,000.00
414,000
148,954.27
200,000.00
230,000
560,000.00
792,954
1,000,000.00
1,000,000
1,100,000.00 1,248,954
2,580,000.00 2,957,091
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0.00
297,908.55
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12/31/2019 12/31/2020
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4,000,000.00 4,600,000.00
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3. Understanding the IRR and NPV
The net present value (NPV) and internal rate of return (IRR) methods of investment analysis are interrelated and are sometimes used together to
make capital budgeting decisions.
Consider the case of Cold Goose Metal Works Inc.:
Last Tuesday, Cold Goose Metal Works Inc. lost a portion of its planning and financial data when both its main and its backup servers
crashed. The company's CFO remembers that the internal rate of return (IRR) of Project Omicron is 13.2%, but he can't recall how
much Cold Goose originally invested in the project nor the project's net present value (NPV). However, he found a note that detailed the
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Year
Year 1
Year 2
Year 3
Year 4
Cash Flow
$1,800,000
$3,375,000
$3,375,000
$3,375,000
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The Murdock Corporation reported the following balance sheet data for 2021 and 2020:
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2020
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$
96,245
$
33,155
Available-for-sale debt securities (not cash equivalents)
24,000
102,000
Accounts receivable
97,000
83,550
Inventory
182,000
160,300
Prepaid insurance
3,030
3,700
Land, buildings, and equipment
1,284,000
1,142,000
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$
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$
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165,670
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W
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Chapter 26
Present Value of an Annuity of $1 at Compound Interest
Year
6%
10%
12%
15%
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1
2
3
4
1 64°F
Internal rate of return method
The internal rate of return method is used by Royston Construction Co. in analyzing a capital expenditure proposal that involves an investment of $17,946 and annual net cash flows of $6,000 for
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5
6
7
8
9
10
0.943
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0.909
1.736
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3.791
4.355
0.893
1.690
2.402
3.037
3.605
4.111 3.785
4.868 4.564 4.160
4.968
4.487
4.772
5.019
5.328
5.650
1.833
2.673
3.465
4.212
4.917
5.582
5.335
6.210
6.802
5.759
6.145
7.360
a. Determine a present value factor for an annuity of $1, which can be used in determining the internal rate of return. If required, round your answer to three decimal places.
0.870
1.626
2.283
2.855
▬
▬▬
■
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0.833
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2.106
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Pro
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Fear
state
2020
2019
Cas!
Accc
Inve
Inve
Lan
Pro
Acc
Goc
300,000
Cash and cash equivalents
Trading securities
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Inventory
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603,000
300,000 200,000
600,000
900,000
2,000,000
200,000
72,000
520,000
840,000
2,100,000
200,000
100,000
4,675,000
4,260,000
Acc
No
Во
Sh.
Sh
Re
Tr
490,000
310,000
800,000
800,000
210,000
1,000,000
Accounts payable
Accrued expenses
Bonds payable
Preference share capital, P100 par, each share
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Ordinary share capital, P20 par
Share premium
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500,000
700,000
400,000
650,000
400,000
820,000
500,000
1,355,000
A
4,675,000
4,260,000
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Discuss the significance of recognizing the time value of money in the long-term impact of the capital budgeting
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60 Replies, 59 Unread
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S
Problem 23-1
An institutional investor is comparing management fees for two competing real estate investment funds. Both funds expect to begin
operations and are accepting capital commitments. When the funds begin acquiring properties, capital calls will be made for capital
contributions during the investment period. Fund A will charge a fee of 45 BP on capital committed and 60 BP on capital invested after
the investment period ends. Fund B will charge a fee of 50 BP on capital committed and 55 BP on capital invested after the investment
period ends. Both funds expect to have $508,500,000 in capital commitments when the fund commences operations and both project
a five-year cycle for startup and acquisitions. Capital flows are expected as follows:
Fund A
Year 1
Year 2
Year 3
Year 4
Year 5
Fund B
Year 11
Year 2
Year 3
Year 4
Year 5
Contributed
Capital
$ 203,400,000
305,100,000
Contributed
Capital
$ 305,100,000
203,400,000
Fund A
Fund B
Capital Returned
50
0
0
101,700,000
50,850,000…
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First United Bank Inc. is evaluating three capital investment projects using the net present value method. Relevant data related to the projects are summarized as follows:
BranchOfficeExpansion
ComputerSystemUpgrade
ATMKioskExpansion
Amount to be invested
$787,317
$584,976
$298,035
Annual net cash flows:
Year 1
391,000
278,000
164,000
Year 2
364,000
250,000
113,000
Year 3
332,000
222,000
82,000
Present Value of $1 at Compound Interest
Year
6%
10%
12%
15%
20%
1
0.943
0.909
0.893
0.870
0.833
2
0.890
0.826
0.797
0.756
0.694
3
0.840
0.751
0.712
0.658
0.579
4
0.792
0.683
0.636
0.572
0.482
5
0.747
0.621
0.567
0.497
0.402
6
0.705
0.564
0.507
0.432
0.335
7
0.665
0.513
0.452
0.376
0.279
8
0.627
0.467
0.404
0.327
0.233
9
0.592
0.424
0.361
0.284
0.194
10
0.558
0.386
0.322
0.247
0.162
Required:
1. Assuming that the desired rate of return is 10%,…
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akeAssignmentMain.do?invoker%3D&takeAssignmentSessionLocator=&inprogress%3false
hapter 11 Lab Application
全 回
Sign ia
еBook
You have been depositing money into an account yearly based on the following investment amounts, rates and times, what is the value of that investment account at the end of that
period?
(Click here to see present value and future value tables)
Amounts of
Value at the End
Investment
Rate
Times
of the Period
$7,000
20%
16 years
612,094.91X
$11,000
15%
9 years
184,644.26X
$15,000
12%
5 years
95,292.71 X
$36,000
10%
2 years
75,600.00
Feedback
>
Check My Work
For each scenario, use the rate and time components to use the applicable time value of money table to determine the needed factor. Multiply the investment amount by the
future value factor to determine the value of end of the period.
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- arning X + tps://ng.cengage.com/static/nb/ui/evo/index.html?deploymentid=5933142288413647560152243&eISBN=97813379 CENGAGE | MINDTAP 11: Assignment - The Basics of Capital Budgeting Blue Llama Mining Company is evaluating a proposed capital budgeting project (project Sigma) that will require an initial investment of $800,000. Blue Llama Mining Company has been basing capital budgeting decisions on a project's NPV; however, its new CFO wants to start using the IRR method for capital budgeting decisions. The CFO says that the IRR is a better method because returns in percentage form are easier to understand and compare to required returns. Blue Llama Mining Company's WACC is 8%, and project Sigma has the same risk as the firm's average project. The project is expected to generate the following net cash flows: Year Year 1 Year 2 Year 3 Year 4 Cash Flow $350,000 $475,000 $425,000 $500,000 Which of the following is the correct calculation of project Sigma's IRR? 34.38% 38.20% 42.02% O 36.29%arrow_forwardSubject: accountingarrow_forwarducation.com/ext/map/index.html?_con=con&external_browser=0&launchUrl=https%253A%252F%252FI... A ork 7 1 Trial Balance-December 31, 2020 Accounts Payable Accrued Interest Receivable Administrative Expense Cash Increase in Fair Value of Investments Distributions-Scholarships Interest Income Investment in Bonds Net Position: Restricted for Scholarships 3 $ * District. Presented below is the preclosing trial balance for the Scholarship Fund, a private-purpose trust fund of the Algonquin School O f5 % Question 3 - Ch 07 Homework - Connect 5 t f6 Complete this question by entering your answers in the tabs below. 4- 6 110 111 Help GE67°F Ⓒ 0: Save & Exit Check my work Subm Co & 8:52 PM 10/13/202 backspaarrow_forward
- 5 of 25 Concepts completed Ordering Question Click and drag on elements in order Place the steps involved in the calculation of the discounted payback period in order. Instructions Mc Graw Hill Add the discounted cash flows. Accept if the discounted payback period is less than some prescribed number of years. Discount the cash flows using the discount rate. Need help? Review these concept resources. Determine the discounted payback period. Rate your confidence to submit your answer. High Medium Low © 2024 McGraw Hill. All Rights Reserved. Privacy Center Terms of Use Exit Assignment X Reading ✓arrow_forwardGovernment Grants (PAS 20) Problem 1. On January 1, 2015, SMDC Inc. was granted a non-interest bearing loan from Bangko Sentral ng Pilipinas with a face value of P1,000,000, term of 3 years and implicit rate of 10%. SMDC received the face value of the loan on the condition that the company will continuously operate for the 3-year term of the loan. Required: Based on the result of your audit, determine the following: __________1. Realized income from government grant for the year ended December 31, 2015 __________2. Book value of deferred income from government grant as of December 31, 2015 Problem 2. On January 1, 2021, ALI Inc. received P2,000,000 from national government on the condition that the company will construct an environmentally-friendly building with a cost of P13,000,000 and useful life of 10 years and residual value of P1,000,000. On January 1, 2023, the government grant became repayable as a result of ALI Inc.’s failure to comply with the environmentally-friendly…arrow_forwardWhat is the total amount of additional funding which the firm plans to take on in the year 2020? FIN401 - Ch.12 Problems Problem 12-9: Garlington Tech S24 Variant Balance Sheet Cash Receivables Inventory Total Current Assets Net Fixed Assets Total Assets Accounts Payable Line of Credit Accruals Total Current Liabilities Long-term Bonds Common Stock Retained Earnings Total Liabilities & Equity AFN (external) Cumulative AFN Income Statement Final Projection 12/31/2019 12/31/2020 160,000.00 184,000 360,000.00 387,000 720,000.00 828,000 1,240,000.00 1,399,000 4,000,000.00 4,600,000 5,240,000.00 5,999,000 360,000.00 414,000 148,954.27 200,000.00 230,000 560,000.00 792,954 1,000,000.00 1,000,000 1,100,000.00 1,248,954 2,580,000.00 2,957,091 5,240,000.00 5,999,000 0.00 297,908.55 Final Projection 12/31/2019 12/31/2020 Sales Operating Costs 4,000,000.00 4,600,000.00 3,200,000.00 3,680,000.00 EBIT Interest EBT 800,000.00 920,000.00 120,000.00 137,874.51 680,000.00 782,125.49 Taxes (25) Net…arrow_forward
- Melissa Jucarez u/22/2021 Corporate finance TRB Of the fallowing see of ccsh flous? Year what 19 the COsh Flows -18.700 1 9,400 10,400 3 6is00arrow_forwardV Content Pearson (Assignments) - MA Ô https://www.mathxl.com/Student/PlayerTest.aspx?testld%3D225147196 3 103 Spring 2021 st: Test 2 (Finance) Online nis Question: 1 pt 5 of 19 (1 complete) ▼ How much must be deposited today into the following account in order to have a $135,000 college fund in 11 years? Assume no additional deposits are made. An account with quarterly compounding and an APR of 7.32% Sshould be deposited today. (Do not round until the final answer. Then round to the nearest cent as needed.)arrow_forwardInformation on four investment proposals is given below:Investment ProposalA B C DInvestment required ........................ $(90,000) $(100,000) $(70,000) $(120,000)Present value of cash inflows ......... 126,000 138,000 105,000 160,000Net present value ............................ $ 36,000 $ 38,000 $ 35,000 $ 40,000Life of the project ............................ 5 years 7 years 6 years 6 yearsRequired:1. Compute the project profitability index for each investment proposal.2. Rank the proposals in terms of preference.arrow_forward
- 5arrow_forwardWhat is the amount of the total paid-in capital? What makes up this amount?arrow_forwardCh 11: Assignment - The Basics of Capital Budgeting 3. Understanding the IRR and NPV The net present value (NPV) and internal rate of return (IRR) methods of investment analysis are interrelated and are sometimes used together to make capital budgeting decisions. Consider the case of Cold Goose Metal Works Inc.: Last Tuesday, Cold Goose Metal Works Inc. lost a portion of its planning and financial data when both its main and its backup servers crashed. The company's CFO remembers that the internal rate of return (IRR) of Project Omicron is 13.2%, but he can't recall how much Cold Goose originally invested in the project nor the project's net present value (NPV). However, he found a note that detailed the annual net cash flows expected to be generated by Project Omicron. They are: Year Year 1 Year 2 Year 3 Year 4 Cash Flow $1,800,000 $3,375,000 $3,375,000 $3,375,000 The CFO has asked you to compute Project Omicron's initial investment using the information currently available to you. He…arrow_forward
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